NATURE AND FORMATION OF A PARTNERSHIP

PARNERSHIP – A partnership is defined in Article 1767 of the civil code of the Philippines as a
“contract whereby two or more persons bind themselves to contribute money, property, or
industry into a common fund with the intention of dividing profits among themselves,”
Accounting for partnership differs from other forms of business organization with regards to
capital accounts. In a partnership, there should be as many capital accounts and as many
drawing accounts as there are partners (one capital account and one drawing account is
maintained for each partner).
CHARACTERISTICS OF A PARTNERSHIP
Mutual Agency. Any Partner may act as agent of the partnership in conducting its affairs.
Unlimited Liability. The personal assets (assets not contributed to the partnership) of any
partner may be used to satisfy the partnership creditors’ claim upon liquidation if partnership
assets are not enough to settle the liabilities to outsiders.
Limited Life. A partnership may be dissolved at any time by action of the partners operating
law.
Mutual participation in profits. A partner has the right to share in partnership profits.
Legal Entity. A partnership has legal personality separate and distinct from that of each of the
partners.
Co-ownership of contributed assets. Property contributed to partnerships are owned by
partnership by virtue of its separate legal personality.
Income Tax. Partnerships, except general professional partnerships (i.e., those organized for
the exercise of professions like CPAs, Lawyers, Engineers, etc..) are subject to the 30% income
tax.
ADVANTAGES OF A PARTNERSHIP
1. It is easy and inexpensive to organize, as it is formed by a single contract between two
or more persons.
2. The unlimited liability of the partners makes it reliable from the point of view of creditors.
3. The combined personal credit of the partners offers better opportunity for obtaining
additional capital than does a sole proprietorship.
4. The participation in the business by more than one person makes it possible for a closer
supervision of all the partnership activities.
5. The direct gain to the partners is an incentive to give close attention to the business.
6. The personal element in the characters of the partners is retained.
DISADVANTAGES OF A PARTNERSHIP
1. The personal liability of a partner for firm debts deters many from investing capital in a
partnership.
2. A partnership may be a subject to personal liability for the wrongful acts or omissions of
his/her associates.
3. It is less stable because it can easily be dissolved.
4. There is divided authority among the partners.
5. There is constant likelihood of dissension and disagreement when each of the partner
has the same authority in the management of the firm.
 Formation of a Partnership
Kinds of Partnerships
1. As to activity
a. Trading partnership – one whose main activity is the manufacture and sale or the
purchase and sale of goods.
b. non-trading partnership – one which is organized for the purpose of rendering
services.
2. As to object
a. Universal partnership
•Universal partnership of all present property – one which the partners contribute, at
the time of the constitution of the partnership, all the properties which belong to each of them
into a common fund with the intention of dividing the same among themselves as well as the
profits which they may acquire therewith.
• Universal partnership of all profit – one which comprises all that the partners may
acquire by their industry or work during the existence of the partnership and the usufruct of
movable or immovable property which each of the partners may possess at the time of the
institution of the contact.
b. Particular partnership – one which has for its object determinate things, their use or
fruits, or a specific undertaking or the exercise of a profession or vocation.
3. As to liability of partners
a. General co-partnership – one consisting of general partners who are liable prorata and
sometimes solidarity with their separate property for partnership liabilities.
b. Limited partnership – one formed by two or more persons having as members one or
more general partners and one or more limited partners, who as such are not bound by the
obligation of the partnership.
4. As to duration
a. Partnership at will – one which no term is specified, and it is not formed for a particular
undertaking or venture, and which may be terminated anytime by mutual agreement of the
partners or will of one partner alone.
b. Partnership with fixed term – one which term or period for which the partnership is to
exist is agreed upon.
5. As to representation to others
a. Ordinary partnership – one which exist among the partners and also as to third
persons.
 b. Partnership by estoppel – one which in reality is not a partnership but is considered as
one only in relation to those who, by their conduct or omission are preluded to deny or disprove
the partnership's existence.
6. As to legality of existence
a. De jure partnership – one which has complied with all the requirements for its
establishment.
b. De facto partnership – one which failed to comply with one or more of the legal
requirements for its establishment.
7. As to publicity
a. Secret partnership – one wherein the existence of certain persons as partners is not
made known to the public by any of the partners.
b. Open partnership – one wherein the existence of certain persons as partners is made
known to the public by the members of the firm.

Classes of Partners
1. As to contribution
A. Capitalist partner – one who contributes capital in cash or property.
B. Industrial partner – one who contributes industry, labor, skill, talent, or service.
C. Capitalist – industrial partner - one who contributes cash, property, and industry.
2. As to Liability
A. General partner – one whose liability to third persons extends to his separate
property.
B. Limited partner – one whose liability to third persons is limited only to the extent of
his capital contribution to the partnership.
3. As to management
A. Managing partner – one who manages actively the business of the partnership.
B. Silent partner – on who does not participate in the management of the partnership
affairs.
4. Other classifications
A. Liquidating partner – one who takes charge of the winding up of partnership affairs
upon dissolution.
B. Nominal partner – is made liable as a partner for the protection of innocent third
persons.
C. Ostensible partner – known to the public as a partner in the business.
D. Secret partner – whose connection with the partnership is concealed or unknown to
the public.
E. Dormant partner – one who does not take active part in the management of the
business and is not known to the public as a partner.
Partnership Contract
A partnership is created by an oral and a written agreement. Since partnerships are required to
be registered with the office of the secretaries and Exchange Commissions. It is necessary that
the agreement be in writing. In this case, misunderstandings, and disputes among the partners
relative to the nature and terms of the contract may be avoided or minimized.
The Articles of Co-Partnership contains the following:
1. The name of the partnership.
2. The name and address of the partners, classes of partners, stating whether the partner
is a general or a limited partner.
3. The effective date of contract
4. The purpose or purposes and principal office of the business.
5. The capital of the partnership stating the contributions of individual partners, their
description and agreed values.
6. The rights and duties of each partner.
7. The manner of dividing net income or loss among the partners, including the salary
allowance and interest on capital.
8. The condition under the which the partners may withdraw money or other assets for
personal use.
9. The manner of keeping the books of accounts.
10. The causes for dissolution, and
11. The provisions for arbitration in settling disputes.
Sample Contract
Registration Requirements

Place of Registration Requirements for Certificate issued

Registration

Bureau of Internal Revenue SEC Registration Articles of Co- BIR registration No.
Partnership Partnership’s Tax Identification
Number (TIN)

Registration of books, invoices,

and official receipts.

Social Security System Filed SSS Application form SSS Certificate of Membership

List of Employees SSS Employer ID Number

Philippine Health Insurance SEC Registration PhilHealth Employer Number

Corporation (PEN) and The Certificate of
Employer Data Record or ERI Registration
Form
PhilHealth Identification
Business Permit or License Number (PIN) and Member
Data Record (MDR) for
concerned employees.
Home Mutual Development SEC Registration HMDF Certificate of
Fund (PAG-IBIG Fund) Membership
Articles of Co-Partnership
HMDF Employer ID Number
PARTNERSHIP FORMATION

FORMATION A: TWO OR MORE PERSONS FORM A PARTNERSHIP FOR THE FIRST TIME
ALL PARTNERS ARE NEW IN THE BUSINESS.

1. Cash Contributions only (Capitalist Partners)

Abad and Alba agreed to form a partnership by contributing P600,000 cash each.

The entry to record the contributions in the partnership is:

Cash 1,200,000
Abad, Capital 600,000
Alba, Capital 600,000

2. Cash and Non-cash Contributions (Capitalist Partners)

Abdon and Anton made the following contributions in the partnership:
Abdon Anton
Cash P 600,000 P 200,000
Inventories 300,000
Equipment 500,000

The entry to record the contributions of the partners follows:

Cash 800,000
Inventories 300,000
Equipment 500,000
Abdon, Capital 900,000
Anton, Capital 700,000

3. Contributions in the form of Cash, Non-cash Assets, and Industry (Capitalist and
Industrial Partners)

Alma, Anna, and Adela formed a partnership. Alma contributed P600,000 cash, Anna
contributed P300,000 cash and equipment valued at P450,000: Adela is an industrial partner to
contribute her special skills and talents to the partnership Profit or loss is to be shared equally
among the partners.

The entry to record the contributions of partners Alma and Anna follows:
Cash 900,000
Equipment 450,000
Alma, Capital 600,000
Anna, Capital 750,000

The entry to record the contribution of partner Adela follows:

Adela is admitted into the partnership as an industrial partner to share one-third in the
partnership profit.

FORMATION B: A SOLE PROPRIETOR AND AN INDIVIDUAL FORM A PARTNERSHIP

The partnership may either: (1) use the books of the sole proprietor, or (2) open a new set
of books.
However, it is a common practice that a new set of books are opened for any new business
undertaking.

Illustrative Problem A: Aguilar and Angeles formed a partnership wherein Aguilar is to

contribute cash while Angeles is to transfer the assets and liabilities (net assets) of his business.
Account balances on the books of Angeles are as follows:

Debit Credit
Cash 300,000
Accounts Receivable 450,000
Inventories 240,000
Accounts Payable 90,000
Angeles, Capital 900,000

The partners agreed on the following conditions:

1. An allowance for uncollectible accounts of P22,000 is to be established.
2. The inventories are to be valued at their current replacement cost of P270,000.
3. Prepaid expenses of P12,000 and accrued expenses of P5,000 are to be recognized.
4. Angeles is to be credited for an amount equal to the net assets transferred.
5. Aguilar is to contribute sufficient cash to have an equal interest in the partnership.

Assumption 1 - The partnership will use the books of the sole proprietor
The following procedures should be followed in accounting for this type of formation:
1. Adjust the books of the sole proprietor to bring account balances to agreed values
2. Record the investment of the other partner.

The following rules will be helpful in making the necessary adjusting entries:
Debit asset and credit capital for increases in asset values
Debit capital and credit asset for decreases in asset values
Debit capital and credit liabilities for increases in liability balances
Debit liabilities and credit capital for decreases in liability balances

In the case of contra asset accounts, the following rules shall apply:
Debit contra asset account and credit capital for increases in asset values
Debit capital and credit contra asset account for decreases in asset values

Hence, the information on the partnership of Aguilar and Angeles will be accounted for as
follows: Step 1: Adjust the books of the sole proprietor Angeles to agreed values
a. Angeles, Capital 22,000
Allowance for Uncollectible Accounts 22,000
b. Inventories 30,000
Angeles, Capital 30, 000
c. Prepaid Expenses 12,000
Expenses Payable 5,000
Angeles, Capital 7,000

The balance of the capital account of Angeles after the three adjusting entries are posted is
P915,000 (P900,000 - P22,000 + P30,000 + 7,000).
Step 2: Record the investment of the other partner. Aguilar
Cash 915,000
Aguilar, Capital 915,000

Assumption 2 - The partnership will open a new set of books

When a new set of books are opened for the partnership, the entry required on the new books
of the firm is the recording of the investment of the partners at agreed values. The opening
entries on the new partnership books using the data given in Illustrative Problem A are shown
on the next page.

a. Cash 300,000
Accounts Receivable 450,000
Inventories 270,000
Prepaid Expenses 12,000
Allowance for Uncollectible Accounts 22,000
Accounts Payable 90,000
Expenses Payable 5,000
Angeles, Capital 915,000
To record the investment of Angeles

b. Cash 915,000
Aguilar, Capital 915,000
To record the investment of Aguilar

Alternatively, a compound entry may be prepared to record the investment of the two
partners.

Entries to adjust and close the accounts are made in the separate books of the sole
proprietor but not in the new books of the partnership. Using the same illustrative problem,
the adjusting and closing entries on the books of Angeles are as follows:

a. Angeles, Capital 22,000

Allowance for Uncollectible Accounts 22,000

b. Inventories 30,000
Angeles, Capital 30,000

c. Prepaid Expenses 12,000

Expenses Payable 5,000
Angeles, Capital 7,000

d. Angeles, Capital 915,000

Expenses Payable 5,000
Accounts Payable 90,000
Allowance for Uncollectible Accounts 22,000
Cash 300,000
Accounts Receivable 450,000
Inventories 270,000
Prepaid Expenses 12,000
To close the books of Angeles
Formation C: TWO OR MORE SOLE PROPRIETORS FORM A BUSINESS

When all the prospective partners are already in business, they may decide to transfer their asset
and liabilities (net assets) to the partnership at values agreed upon or at fair market values, in the
absence of agreed value.

The partnership may either; (1) Use the books of one of the sole proprietors, or (2) Open a new set of
books for the partnership.

Illustrative Problem B: Antonio, owner of Antonio Variety Store, and Albano, owmer of Albano Trading
decided to combine their businesses of July 1, 2014. Each is to transfer business asstes and liabilities (net
assets) at agreed values. Statements of financial position for the two proprietors are presented below.
The partners agreed on the following conditions:

1. Partners' capital in the partnership shall be equal to the adjusted net assets transferred.

2. Adjustments are to be made as follows:

a. Allowance for Uncollectible Accounts shall be P7,200 and P30,000, respectively.

b. Inventories are to be valued at 120% of their recorded values.

c. Both store and delivery equipment are 5% depreciated.

Assumption 1 - The partnership will use the books of one of the sole proprietors

The procedures to be followed under his assumption are similar to the procedures discussed under
Formation B - Assumption. Thus, if the books of Albino Trading will be used by the partnership, the
following procedures will be followed.

1. Adjust the books of Albano Trading to bring the balances of accounts to agreed values.

2. Record the investment of Antonio.

The adjustments on the account balances of Antonio Variety Store are not taken up on the books of
Albano Trading which are now the partnership books. Instead, the following adjusting and closing
entries are prepared on the separate books of Antonio Variety Store:

Assumption 2 - The partnership will use a new set of books

When a new set of books are opened for the partnership, entries are prepared to record the investment
of the partners at agreed values. The opening entries on the new partnership books using the data given
in Illustrative Problem B are shown below:

The new partnership may prepare a separate entry for each partner's contribution as shown above or a
compound entry that shows the contribution of all the partners.
Keypoints:

 In the opening entry, the plant assets are recorded net of depreciation.
 The account accumulated depreciation is not carried on the partnership books.
 The net amount, being the agreed value represents the cost of the plant assets to the
partnership and such amount becomes the basis for future depreciation ny the partnership.
 Both Accounts Receivable and the corresponding allowance for Uncollectible accounts are
recorded on the partnership books.
 The allowance for Uncollectible accounts is carried on the partnership books because of the
possibility of collection.
 If there are specific Accounts receivable which are deemed worthless, such must be written off
and removed permanently from the outstanding accounts receivable.

A statement of financial position prepared immediately after the formation of the partnership of
Antonio and Albano is shown below.